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Mortgage-backed securities have been used by banks to increase their lending capacity in the past 10 years. In 2000 barely £10bn of such bonds were issued, but by 2007 this had reached £200bn.
The securities are a sophisticated way of packaging existing home loans and selling them on to investors - often other banks and big money market funds. They enabled originating banks to shed the mortgage debt from their balance sheets which meant they could lend more money while remaining within their regulatory requirements.
These bonds were attractive to investors because they were high-yielding and appeared risk-free as they were backed by what seemed to be ever buoyant housing markets.
But, once the US sub-prime loans market started to collapse, the demand for mortgage-backed securities dried up. This knocked sentiment in the markets and burned the fingers of US players who bought around a third of mortgage-backed securities issued by the UK banks. The amount of finance this market provided for lenders above their retail deposit bases is one of the reasons it is highlighted by Sir James Crosby in his review of mortgage finance. By recommending that the government provide guarantees over the next two years for up to £100bn of issuance, Crosby is hoping that it will give lenders another way of financing, in addition to customer deposits.
His plan would require the government to auction its guarantees that lenders would then attach to their issues of mortgage-backed securities. The guarantees would only be attached to the safest home loans and ones used to buy houses re-mortgaging existing properties.
- Housing market
- Economic policy
- Pre-budget report 2008
- Mortgages
- House prices
- UK banking sector
- Banks and building societies
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